Investing and Retirement (or how to live on free money)

What is retirement?

No one wants to work their entire life, which is why people retire. Retirement is great because it means you can stop working and enjoy the golden years of your life. Some people move into their dream home, some travel the world, and others do things they have always wanted to do. However, all people that retire have one thing in common: money, and a lot of it! How much? You need enough to live on for ten, twenty, or thirty years.

So how do retirees get all that money? They spend their lifetime planning, saving, and investing. Now is the perfect time to start.

What is investing?

Investing means growing or multiplying your money. It is a form of savings but also presents some risks. There are a variety of methods to invest money and each way involves its own risks and rewards. It is a little like gambling because it involves both research on strategies and a little luck. Of course, it is less likely you will lose all your money when you invest, especially if you do your homework.

Types of Investments

Stocks

Stocks are high risk, but also high reward. Picking the right stock at the right time makes people millionaires, but if you pick the wrong stock at the wrong time you could end up broke.

When you buy stock, you are buying a stake in the company. That means you are a part owner. As part owner of the company, you get to share the profit the company makes every year. But you also share in the loss, which means you could lose your money, and you do not get it back. Do careful research of companies and decide which company you think is going to make a lot of money over many years.

Stocks are at the heart of most investing strategies. There are thousands of books, web sites, and financial advisors that teach people how to play the stock market. It is up to you to find what works the best.

Mutual Funds

Mutual funds can be anywhere from a low risk/low reward to a high risk/high reward investment. When you buy into a mutual fund, you are pooling your money with other people to buy stocks in lots of different companies and multiple investment tools (like bonds) that are managed by a professional. This means if one or two companies perform badly, it does not hurt you as much, but you also do not enjoy as much returns. Usually mutual funds reflect how good the market is as a whole. Many mutual funds let you buy in a certain industry (like green technologies) while others are classified by how aggressive they are in investing.

CD (Certificate of Deposit)

Certificates of Deposits are an almost no risk, low reward investment. You agree to give up your money for a fixed time and get more money after the time period ends (called maturity). The interest rate for CD’s is usually higher than saving accounts. The catch: you cannot access the money until the CD is “mature.” This means if you buy a five year CD, you can’t use that money for anything else for five years unless you want to pay a high money penalty. There are many options for how long you want your CD to work for you, anywhere from three months to five years or more.

Bonds

Bonds mean you loan money to someone for a fixed time period with a fixed interest rate who then pays you back later with interest. Essentially you give up your right to the money so you can have more money later. There are many bonds to choose from which range from low risk/low reward to medium-high risk/medium-high reward. Bonds also have different lengths of time you can collect the money, from less than a year to more than ten. Generally you cannot collect your money until after the date of maturity or you have to pay stiff penalties. Some bonds are more secure than others but the less secure your bond, the more potential money you can get.

Generally there are two kinds of bonds, those issued by governments and those by corporations.

Government: Generally these are the safest bonds but they pay the least amount of money.

Corporate: These are much riskier than government bonds but they pay much better. Of course, if you get a bond from Coca-Cola you are almost certain to get paid back and you get the higher interest rate. Be wary of companies that look like they could fail.

Other: There are many different types and sub-types of bonds. Do some research and see which ones are best for you.

Money Market/High Yield Savings

These form of savings are completely safe (insured by the government up to $100,000) but are low reward. Every month the money you have saved in the account gets interest (determined by the current rate). It is usually not a lot of money but it is free and it adds up over time. The benefit of this kind of savings tool is it is liquid, meaning you can take the money out at anytime and not have to pay a penalty. This account is good for emergencies funds.

Special Retirement Investment Accounts

IRA

An Individual Retirement Arrangement (IRA) is an investment account designed specifically for retirement. There are many tax benefits to investing in an IRA and many different kinds of IRA accounts to choose from. Generally you can put different kinds of investments in them, like stock or bonds and not pay taxes until later (like when you withdraw the money). The idea behind these accounts is that you don’t touch the money until you retire and usually there are penalties if you take money out before a certain time. Below is a small sample of some IRA accounts.

Roth IRA: Usually withdraws are free after a certain age (which is good because this is where you get your money after you retire) and have no or little tax impact.

Traditional: The money you put in it are “tax-deductible” which means that money reduces how much tax you pay in a year. However, withdraws are taxed as income.

401(K)

A 401K is a retirement savings plan where income taxes are deferred until withdraw offered by certain employers. Usually, some of your wages go directly into the account and some employees even match your contribution. This is good because they are essentially giving you free money just for saving in their account. The money can be invested in many ways, like stock, mutual funds, or bonds.

What is Diversification?

When you hear about investing you hear about diversification. It means putting your money in different kinds of investments, a mixture of low risk/low reward and high risk/high reward accounts. Do not put all your money in one kind of investment.